08 Mar New Mortgage Modification “Cram Down” Bankruptcy Laws to Help San Diego

New Bankruptcy Laws may soon go into effect to relieve San Diego County’s underwater real estate market, wherein mortgages may be modified or “crammed down” by Bankruptcy Judges. In the first week of March, 2009, theHouse of Representativespassed the long overdue Bankruptcy “Cramdown Bill” (a mortgage modification bill) by a vote of 234 – 191, otherwise known as H.R. 1106.

This new legislation will allow Bankruptcy Judges the discretion to modify the mortgage principal balances on primary residences, in addition to completely removing most other junior deeds of trust. In the past, virtually any secured debt on the planet could be modified, unless it was the principal residence. It made no sense whatsoever. But now this new legislation may bring equity to the modification of secured debt.

The following example shows how this new legislation could possibly play out in a Chapter 13 case involving a family from South San Diego County.

Joe and Jill bought a home in South Bay for $1,000,000.00 in January, 2007. They received a stated income/stated asset loan, and put no money down. They have a 80% first to Countrywide and 20% second to New Century. Two months after the purchase, the wife was laid off and the husband’s income recently slashed in half due to the economy. Their income went from $14,000 per month now down to $5,000 per month. They have 3 kids and are financing two vehicles. They have amassed $250,000.00 in credit card debt just robbing peter to pay paul and stay in their home. The house is now worth $450,000. They could just walk away from the home and under CC 580b, the lenders could only pursue the property. THERE IS NO RECOURSE AT ALL AGAINST JOE AND JILL.

So why not walk?

In that case, a foreclosure would provide the second $0.00 and the first would receive about $380,000 once all the costs of foreclosure complete its course. Presently, their expenses are as follows:

$5,322.00 First Mortgage

$2,414.00 Second Mortgage

$1,040.00 Property Taxes

$ 500.00 Insurance and HOA fees

$650.00 Auto Payment

$ 550.00 Auto Payment

$10,476.00 TOTAL

Under current laws, the cars could be reduced to the fair market value, interest rates cut, and loans recast over 60 months. Total payments would go from $1200 per month to $650 per month.

But the substantial changes under the new legislation arise from mortgage modification. The second lien would be entirely removed(this is not new and can presently be done under existing laws). But the new legislation would then allow the first mortgage to be reduced from $800,000 to $450,000. The 6.5% interest rate could then be reduced to 2%. Finally, the $450,000 could be spread over 40 years. The result: $1,363.00. Thats right, their combined mortgage payment could be reduced from $7,736.00 per month to $1,363.00 a month, a savings of $6,373 per month or over $76,000 per year in interest payments!

Additionally, they save $550,000 in principal reduction, eliminate $250,000 in credit card debt, and rewrite the vehicle loans. In all, they go from paying $10,476.00 per month for the home and cars to $2,979.00 for the home and cars, saving nearly $7500 per month. In 5 years, they are then debt free, have the cars paid off, and continue paying the $1,363.00 mortgage payment. Its a no brainer for anyone wanting to save their home from foreclosure. Under the new laws, it seems everyone wins.

Are the banks mad?

They say they are, but I’m not sure why. Most banks do not hold these stated income/asset loans. Rather, when Wall Street got drunk, they were sold off in the form of Mortgage Backed Securities and Collateral Debt Obligations and traded to institutional investors. All the banks typically do is service the loans for profit. So I’m not really sure why they gripe.

Should the investors be mad?

They say they are, but again I’m again not sure why. In the forgoing example they get $450,00.00 as opposed to $380,000.00 in a foreclosure. They save $70,000.00, and in a market where real estate continues to fall and where they could stand to lose thousands more at a later foreclosure date.

This new legislation must still pass the Senate before hitting the President’s desk. There is talk of amendments to the legislation. Its certainty still is unknown. But one thing is certain. If this legislation passes as it is presently written, San Diego County’s Real Estate Market will begin to stabilize. This is simply because “walk aways” will no longer make sense and housing supply will stop increasing.